William Mougayar

On Tech, Business, Society.

The Race to Change the SEC Course and Some Breakthrough Scenarios

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On May 3, 2023

In Blockchain

It is unlikely the US Congress will pass significant crypto-related legislation soon in order to foil the SEC’s path of killing that industry. 

As I wrote last week, 81 crypto-related Bills have been proposed so far, but none have yet to pass. One of the most hopeful Bills pertaining to Stablecoins had to be re-written as the previous one died on the vine. Another “comprehensive” Bill is being promised by Rep. McHenry as a joint effort from the House Financial Services Committee and the Agriculture Panel.

The SEC has momentum, and they can move much faster than Congress, sadly. The only way to make headways is to throw the SEC a curveball, distract them, think out of the box, do something different, or wait for an unexpected event to change the variables.

Some candidate ideas could have a faster gestation period than passing a Bill. 

1/ Sideline Gensler’s Power

Statutorily, the SEC’s Chair reports to the US Congress. Rep. Warren Davidson is preparing a Bill he will introduce in May that might limit the powers of the Chair, and give the Commissioners more voice.

2/ The Coinbase Legal Battle

There are two interrelated parts to Coinbase’s situation. First, the much-publicized Wells Notice and their response to it. Second, is their filing of a “narrow action” asking the SEC to answer their 2022 petition. The silver lining in this situation is something called “The Major Questions Doctrine” as it might be used to argue that digital assets are not within the SEC scope, and that Congress should give that mandate.

3/ XRP (Ripple) Lawsuit

It can go either way, and the type of outcome will determine how significant this might be for the industry. 

4/ State Legislation Mess

In the absence of federal agencies’ leadership, several states are enacting legislation touching pieces of the blockchain industry. Although this patchwork of local regulation may or may not be congruent with the national strategy, it’s possible that one such Law might tip the attention and create a new sense of urgency. Notable mentions are California’s DAO Bill, Texas’ Mining Bill,  Florida’s proposal to ban CBDCs, Wyoming’s Bill on private crypto keys, etc. Regardless, this underscores the mess this is creating.

5/ Self-inflicted Event 

The SEC’s arrogance was asserted when they either sued or fined the top four US actors, Ripple (XRP), Coinbase, Kraken, and Gemini. It’s possible that something starts to crumble under Gensler’s dictatorial and domineering style of leadership. 

6/ A Major US Bank Endorsement

Although major US banks have been absent from any crypto cheerleading, that can change on a dime. These banks are under pressure to become more open-minded about the inevitability of the blockchain and cryptocurrencies. If one of them makes a bold move, others will be fast followers.

7/ Unexpected Turn in the FTX Trial

The trial is set for October, but it could get delayed, or we might see a speedy outcome. There hasn’t been a shortage of unexpected twists and turns, and that will probably continue as more layers of the onion get peeled.

8/ The US Dollar Tumbles

Many are sounding the alarm bell on the continuing weakness of the US dollar versus other world currencies, some of which are competing to replace its supremacy. Then you need to compound the US Fed’s insatiable appetite to print more USD, and the theory that cryptocurrency is a good alternative hedge against the devaluation of the dollar. The chart to keep an eye on is the US Dollar Index (DXY), which has been on the decline, dropping from 110.88 in November 2022 to 101.61 in early May 2023. 

9/ Senate Flip 

Midterm elections could flip the Senate toward a Republican majority which might embolden the US House to act more aggressively pertaining to cryptocurrency.

Of course, the probabilities are low for some of these scenarios, but everything is possible. We need a breakthrough because the current path for change is very slow.

And breakthroughs often come as a result of unexpected surprises.

To Change the Rules or Not, That is the Question

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On April 28, 2023

In Blockchain

A trillion-dollar question is at the heart of the stalemate between the SEC and the crypto industry: should the SEC rules wiggle for crypto or not? 

Yesterday, at the US House Hearing Entitled: “The Future of Digital Assets: Identifying the Regulatory Gaps in Digital Asset Market Structure”, this statement from Representative Ritchie Torres caught my attention:

It summarizes the situation well. On one side, Chairman Gensler continues asserting there is nothing new here with crypto, and the industry should line-up under the existing regulation. His latest absurdity invokes a dog-goldfish analogy to traditional-crypto financial market.

On the other hand, a conventional wisdom reasoning would tilt on acknowledging that cryptocurrencies and blockchain-based technologies usher a slew of innovative business models and capabilities that must be allowed to live and prosper, especially when conceived and deployed in the United States, the largest and most vibrant capital market and economy in the world.

We know well by now, the SEC has not been shy about updating rules: 52 proposed new rulings in the past two years, of which 46 have been already enacted. Sadly, instead of expanding the scope of these rules to give life and validation to crypto, they have been doing the opposite: tightening the noose on existing regulation in order to explicitly choke crypto innovation, and that adds insult to injury. 

A picture is worth a thousand words. So, I’ll leave you to digest this diagram that says it all.

Where we are: 
Crypto is innovating at the edges of current regulations. True, it is currently hovering outside some existing regulatory boundaries.

Where we could be:
Update / Clarify rulings to encompass crypto, while still leaving some room for innovation at the edges.

What the SEC is doing: 
Tightening rules further to increase crypto exclusion. The SEC is updating some rules in the opposite direction, making it more difficult or impossible for crypto to comply. 

Could Decentralized Protocols Disclose their Performance Autonomously?

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On April 26, 2023

In Blockchain

Forget DAOs, we need autonomous, real-time reporting for decentralized blockchain networks 

Let’s humor ourselves a bit. 

In a previous blog post, an SEC conundrum was exposed about expected disclosures meant to protect the consumers: if decentralized protocols have no central teams, who would be responsible for preparing and providing disclosures to the public? 

Of course, the extreme case of centerless decentralized blockchain consensus protocol is Bitcoin, closely followed by Ethereum. 

Transparency and disclosures are important. It’s a point the SEC has been harping on, and rightfully so. It is one of the key tenets of their raison d’être, “to require public companies, fund and asset managers, investment professionals, and other market participants to regularly disclose significant financial and other information so investors have the timely, accurate, and complete information they need to make confident and informed decisions about when or where to invest.” The objective of such disclosures is to prohibit deceit, misrepresentations, and other potential fraud.

Unfortunately, for many token-based projects, even some of the popular and centrally-managed ones, there are no transparency reporting standards, let alone plain transparency, or even any formal reporting. Information opacity and dissymmetry abound. 

However, most blockchain protocols have a variety of performance & operations-related dashboards and blockchain explorers that are rich with data, analysis, historical trends, and a variety of publicly or privately assembled valuable information. 

What if there was a way to string these information sources together intelligently, pluck out the most relevant data into a meta layer of sorts, and make that available in a format that would be digestible for interested “investors” or “token holders” and would give them an informed and accurate view about the network performance in a normalized manner?

Let’s take this concept further. 

That first meta layer could be fed into an AI layer that creates the narrative around the data.

Then, one could feed that narrative in a text-to-speech conversion later, and make that available to anyone who wants to obtain a voice update on how a particular project is doing. 

And since everything is real-time, that process could run as a continuous loop, and it could even be provided on-demand, at any point in time. 

Finally, another AI-driven query layer would be able to take human prompts and generate the right responses. 

There we have it. Autonomous reporting. There is no need for end-of-quarter reporting in blockchain networks. They run non-stop, so their performance indicators should be read non-stop. 

We have been advocating DAOs for a while, with no visibly spectacular examples to point to. 

How about we start with Autonomous Reporting?

The Writing is on Wall: The SEC is Unfit to Regulate Cryptocurrency

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On April 25, 2023

In Blockchain

If the SEC Isn’t Fit to Regulate Crypto, Let a new Digital Assets Commission Take Birth and Rule instead

Gary Gensler is the problem today in crypto, but there was a silver lining in his refusal to provide a straightforward answer to a seemingly simple question by Rep. Patrick McHenry: Is Ether security or commodity? 

On the surface, it sounded like he was dodging the question and continuing to be himself, i.e. perpetuating the current SEC practice of confusing the market while maintaining their enforcement agenda. 

Let’s pretend there could have been a Yes/No answer. Chair Gensler is no dummy. He knows that answering more precisely would have instantly obsoleted his crypto agenda and revealed the nonsensical, illogical path they are currently pursuing. And he would have shot himself in the foot by exposing the cracks in the conundrum his agency is facing.

Let me explain.

Damned if it is, Damned if it’s not

If Gensler had said that ETH is a security, then it would be allowed to trade on approved security exchanges such as the Nasdaq or NYSE, right?

Yes, but nonsensical. 

Granted, it would be a boon for Ethereum because mainstream investors could buy it via the large and established broker-deal networks, but this would be bad for US crypto exchanges because they aren’t allowed to trade securities. They would need to de-list ETH and 99.99% of the other currently listed tokens on their platform. In one scoop, the whole industry would crumble. Gensler might be perceived as the villain here, but he doesn’t want to go down in history as the man who killed a trillion-dollar industry with one stroke (although he’s trying hard to kill it slowly by a thousand cuts).

Nonsensical scenario, of course. 

Assuming Ethereum was a security and eligible to trade on the Nasdaq, the issue is that it doesn’t make money like a traditional company, so what kind of reporting disclosures would “investors” expect? Specifically, the Ethereum Foundation (who originally issued the ETH tokens) doesn’t generate revenue from the Ethereum Network and is not “in charge” of Ethereum’s Protocol/Network revenues. So, who is going to file for that security listing? And who is going to provide the regularly scheduled disclosures that public companies are subjected to? 

Nonsensical. 

Speaking of disclosures, what will be considered as Ethereum Network’s revenues? Are we talking about the protocol’s gas revenue? Or stakers revenue? Or staking pools? Or transaction fees? Wait, the protocol itself can’t generate quarterly reports nor conduct earnings calls with “investors”. 

Nonsensical.

Now, let’s suppose the answer was that Ethereum is not security. Then, it would be officially sanctioned for trading on crypto exchanges, right? True, but Chairman Gensler is no dummy. 

If he had declared Ethereum to be a commodity, then he would have opened two cans of worms at the same time. First, Ethereum would slip away from the SEC’s regulatory purview. His most visible bargaining toy would be taken away, and probably tilt toward the CFTC’s purview. [Now, you understand the essence of the ongoing turf war between these two commissions.] Second, every other token would start claiming they are similar in nature to Ethereum, hence deserving of the same classification.  Then, the SEC would have their hands full dealing with a flurry of such inquiries. This would put them on the defensive, instead of remaining on the offense currently, which allows them to pick and choose which enforcement actions they wish to embark on.

Nonsensical.

If the Token Doesn’t Fit, You Must Acquit (and Not Regulate)

Although his predecessor’s staff via Director Hinman already stated that Ethereum would not be classified as a security, Chairman Gensler preferred to remain on the fence citing the proverbial “facts and circumstances” as a rider to any definitive conclusion.

It is true that in 2014, the Swiss-based Ethereum Foundation was the entity that issued the ETH token, and that event itself was a security offering. But when Ethereum was launched more than a year later, it suddenly caught fire and became decentralized very quickly, resulting in an overwhelming demand for its utility by thousands then hundreds of thousands then millions of users and developers worldwide. Ethereum became a commoditized utility. Its value accrued because of its decentralized status, not as a result of the efforts of the self-effacing Ethereum Foundation.

What this points to is that a traditional regulator may not be fit to regulate cryptocurrency. Although many tokens have security characteristics, several of them equally do not. Cryptocurrency and digital tokens represent a new asset class. With a new class, new rulings are expected.  

It is now obvious the SEC has not been able to grapple with the idea that this new asset class deserves a different kind of regulatory treatment than constraining it within the confines of the existing system. 

Since there is a turf war between the SEC (security side bias) and the CFTC (commodity side bias), why not let a new, impartial agency emerge and regulate these new tokens with clarity?

If that were the case, it would become a lot easier for each token to get classified either as security or utility accordingly. But only after that ruling clarity comes into light.

If the US Congress isn’t able to force the SEC to change its course quickly either by voting on a Bill or by convincing Chair Gensler to open up his mind, then US cryptocurrency activity as we know it is dead. 

Of course, we are awaiting a proposal by Rep. Warren Davidson to limit the powers of the SEC Chair and replace that role with an Executive Director that reports to the Board.

In parallel, why not advocate for the creation of a new Commission to govern the regulation of digital assets? [It is an idea I already floated in October 2021, The US Needs a Dedicated Crypto Regulator.]

Let’s call it simply the DAC: Digital Assets Commission. 

The DAC would be responsible for drafting new comprehensive regulations for the issuance, usage, and trading of digital assets. The DAC would take into account the existing Securities Act and the role of each existing regulatory body. It would also prescribe the interrelationships between these bodies and clarify where issuers, users, and traders stand with cryptocurrency-based projects, companies and organizations.

Let’s be realistic, the writing is on the wall. The crypto industry has clearly reached a deadlock with the SEC. It’s time to look for strong options, now.

Terrible Tuesday, Whimper Wednesday, Terrific Thursday: A Week to Remember in Crypto Regulation

By

On April 21, 2023

In Blockchain

This was a week to remember for crypto industry regulation.

Terrible Tuesday

On Tuesday April 18, 2023, the US House Financial Services Committee conducted a Hearing Entitled: Oversight of the Securities and Exchange Commission with SEC Chair Gary Gensler in the hot seat. During this hearing, it became abundantly clear that the SEC was purposely not doing anything new to update their rules pertaining to crypto regulation, while they were rushing with 48-52 ruling updates, as I already pointed out in a previous post,US Policy on Cryptocurrency Is Lopsided: It is Solely Focused on Mitigating Risks while Suffocating Innovation, Leadership and Growth. The SEC continue to firmly believe that the industry must fit its square pegs into its round holes. 

As expected, the Democrats praised Gary Gensler and threw him soft ball questions.

Unsurprisingly, the notable Congressmen that skewered Chairman Gensler the most were Reps. Patrick McHenry, Tom Emmer, and Warren Davidson. To add to this wonderful trio, a newcomer, Rep. Byron Donalds delivered a final coup de grâce that summed it up.

The other takeaway is that the SEC didn’t seem to care if they were pushing the crypto industry outside of the US. Sure enough, two days later, Coinbase and Gemini announced they were setting-up offshore operations. 

It was a terrible day, if you were in Gary Gensler’s shoes, despite his cavalier attitude during that marathon hearing.

Whimper Wednesday

On Wednesday April 19, 2023, the US House Subcommittee on Digital Assets, Financial Technology, and Inclusion conducted another Hearing Entitled: Understanding Stablecoins’ Role in Payments and the Need for Legislation.

Contrasted with the fireworks-heavy preceding day, that hearing was a bit of a whimper. Democrats were wishy-washy on supporting stablecoins. Rep. Maxine Waters had the audacity to declare that we “are starting from scratch”, a very sad statement that typified how politics can quickly lead to a stalemate when each side digs deeper into its own positions. Sadly, that Hearing was short, and ended in a status quo situation despite the fact that many in the crypto industry had high hopes for seeing stablecoin-related legislation be the first to get passed, given the many months of preparations.

Terrific Thursday

Thankfully, the European Union saved the week, with something tangible. Almost three years in the making, the Markets in Crypto-Assets Regulation (MiCA) was passed by the European Parliament. Although not perfect, it did usher clarity and an willingness to fold crypto into the traditional financial system. Clearly, the EU doesn’t want crypto to be an outlier. This was a good step in the right direction, especially when contrasted with the US policy of trying to keep crypto outside of the financial system while tightening the noose on it.

Former SEC Chair Jay Clayton said it well this morning on CNBC. 

But why wasn’t he so hawkish and effective as the SEC Chair for four years? 

What’s next? 

Next week, another new Hearing was just announced by Rep. Patrick McHenry, entitled: “The Future of Digital Assets: Identifying the Regulatory Gaps in Digital Asset Market Structure”.  

Indeed, the gaps are getting wider, with each passing day that the SEC continues on its current path of crypto exclusion. Rumors has it that Senator Elizabeth Warren also has something planned. 

Republicans appear to have the upper hand in terms of increasing the heat on the SEC. 

Two questions remain:
Can the US Congress move fast and pass at least one piece of legislation to put the breaks on the SEC’s damaging path?

Can the US House of Representatives oust Gary Gensler as Rep. Davidson seems to be determined to do when he introduces his awaited legislation hopefully next month?

This movie will surely have multiple future seasons and episodes, but the US spectators are getting tired of being taken around in circles.

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